unemployment and robots

robots are everywhere

Like just about everyone else (except my wife, who is a former president of the local chamber of commerce in our small home town), for years I’ve gone to the ATM instead of a bank teller. I don’t photo checks into our account, however, although close to 10% of American check volume is now processed this way.

I see the car commercials where computer-controlled cutting and welding machines are the ultimate symbols of manufacturing excellence.

I saw IBM’s Watson trounce those two guys on Jeopardy.

So, yes, I know that robots are taking over some tasks previously done by humans.

jobs at risk

What I didn’t know is how many jobs are potentially at risk.

Then I read an opinion piece by Martin Wolf, the chief economist of the Financial Times. It’s titled “Enslave the Robots and Free the Poor.”   Like anything Mr. Martin writes, the article is worth reading. But I mention it here because it references a paper by two professors from Oxford, Carl Frey and Michael Osborne, “The Future of Employment:  How Susceptible are Jobs to Computerization.”

The answer is “very.”  The paper concludes that 47%–that’s right, just about half, of the jobs now done by humans in the US are likely targets for replacement by robots.

How can this be?

Mssrs. Frey and Osborne divide work tasks into a matrix, according to whether the they require manual or cognitive skills, and whether they are repetitive or are non-repetitive, i.e., require some creativity, judgment or persuasive ability.

What we see in the ATM and the welding machines is repetitive manual tasks already being done by robots. We;re all used to that. The Frey/Osborne assertion is that while robots may increase their penetration of this segment of the matrix, computer scientists have become skillful enough in their algorithm fashioning that robots can now replace humans doing routine cognitive tasks. These include cashiers, waiters, tickettakers, manners of information kiosks, legal writers, medical diagnosers, truck drivers…

Is anyone safe?

Thank goodness, yes. On second thought, “Thank goodness” may not be appropriate.

–one set of “safe” jobs consists of service work that pays so little that savings don’t cover the cost of building the robot. Ouch.

–the other “safe” jobs re the ones that require a high degree of education, or that depend on creativity, or the ability to lead/persuade others, or the flexibility to respond effectively to novel situations.

fending off the robots

In the Frey/Osborne research, the two most effective ways to prevent your own robotization are to have a college degree or to be paid very poorly. Those lucky enough to qualify on both counts can breathe a sigh of relief.

timeframe

The Oxford paper gives no timeframe for this displacement. But even if the authors are off by a mile in their 47% and even if the process they describe takes half a century, substitution of capital for labor will continue to be a drag on job formation for a long while.

Frey and Osborne point out that ten years ago academics maintained that the safest possible job was being the driver of a motor vehicle.  And then along came the Google car.

IBM is refocusing itself to emphasize development of Watson, which is already being used to help make medical diagnoses.

 

Ironically, the current ultra-low interest rate regime in the US lowers the cost of investment capital—and therefore also lowering the breakeven point that must be reached to make the investment in robots.

investment significance?

Mr. Wolf’s op ed imagines the possible long-term societal implications of further mass replacement of humans by robots.  As an investor, my thought is that it may be wrong to look for the usual cyclical signs of vigor returning to the economy–signs that may never come.  Safer to focus on secular growth ideas,

 

 

problems in emerging countries (ii): financial markets

First, a small–but important–distinction.  There are emerging markets located in wealthy nations.  They focus almost exclusively on trading of local securities in countries where not many companies are listed and where locals have little interest.  Germany used to be one such backwater–and still is, to some extent.  Eastern European countries, members of the EU but with rudimentary securities markets, are another.

Then there are emerging countries, and their stock markets.  This latter group is what I’m writing about today.

emerging countries’ markets

The securities markets in emerging countries have two important characteristics that I think most investors are unaware of:

1.  There’s very little local demand for stocks or bonds.  There are usually no institutional investors, because there are no pension funds.  The average citizen works a 60-hour week to make, say, US$125.  He has no money to put at risk by buying bonds or stocks.  He may not trust his local financial institutions.  Instead, he may buy gold and bury it in the back yard.

This means that the local markets rise and fall on demand from foreigners.  When times are good, foreigners pile in and financial instruments soar.  The longer the boom, the deeper into unknown waters (smaller markets, micro-cap stocks) they wade.

Eventually, the tide turns.  The first to leave quickly exhaust local demand.  The rest can find no one to sell to.  Around 1990, for example, developed country investors “discovered” Indonesia toward the end of a long bull run in emerging markets.  After the party wound down, it was at least two years before investors with large holdings in Indonesian stocks could even begin to pare them.

2.  Local rules can change quickly.  Changes can apply either to everyone or just to foreign investors.  Capital controls can be imposed that would allow foreigners to sell securities but prevent them from exchanging the local currency they get for anything else, or would forbid them from removing sale proceeds from the country.

Or the government might simply tell foreigners they couldn’t sell   …or could unofficially tell local brokers they could not accept a sell order from a foreigner or process a completed transaction.

Not good.

active managers vs. index funds/ETFs

Veteran investors in emerging markets generally understand that the battle of wits between buyer and seller can sometimes turn into a game of Whack-a-Mole, with them in the role of the mole.  They cope either by staying completely away from the riskiest markets or holding only the safest names in small amounts.  They meet redemptions by selling some of their holdings in larger, more stable markets if they’re caught in a no-liquidity market.

This is a plus and a minus.  On the one hand, fund investors can get their money back.  On the other, by rerouting selling from risky to more stable markets, meeting redemptions ends up creating a minor kind of contagion.

Index entities, on the other hand, have little discretion.  They don’t have active managers to do selective selling.  They don’t want active managers, either.  What if the manager sells the wrong stuff and the fund/ETF underperforms, as a result?

ETF selling, which I’ve read has been quite heavy recently, exerts downward pressure on everything in the index–good or bad, sound country or not.  This ends up being another, stronger kind of contagion.

The question I don’t know the answer to is what an emerging markets index fund/ETF does with illiquid securities that its mandate (to mirror a specific index) forces it to sell but for which it can find no buyers.  My guess is that the firm that runs the index entity purchases the securities in question, after having a third party determine fair value.  I don’t know, though.

Anyway, problems in a few emerging markets can quickly spread to the whole asset class.

what to do

At some point, I think the right thing to do will be to look for an experienced emerging markets manager with a good track record, who works in a strong no-load organization.   Let him/her sort through the rubble for us.  I don’t yet feel a strong urge to do so, however.

problems in emerging countries (i): economic

There has been a lot of hand wringing lately about emerging markets.  Worries are two-fold:  economic problems and stock/bond market problems.  Today I’m going to write about the first, tomorrow the second.

Even when I was in school, there was a well-understood, coherent, all-encompassing theory of how a closed one-country system works economically.  There’s nothing like that, even today, for a multi-country system with open trade, differing political philosophies and involving countries at various states of economic development.

I guess I’m saying that what follows is highly simplified, although I think it still gets across what the basic forces at play are.

an emerging country

Suppose the citizens of  an emerging country, or the government for that matter, want to obtain goods made by another country.  Let’s also say the seller won’t accept the buyer’s local currency but wants to be paid either in its own currency or in some global standard, like dollars, or euros or renminbi.

The buyer has several choices.  It can:

–barter with the other country, avoiding the forex issue,

–sell domestic goods in international markets, obtain foreign currency that way and use it to buy the foreign goods,

–use foreign currency it has previously piled up somewhere,

–sell domestic assets, like farmland or mineral rights, to foreigners or

–borrow the foreign currency it needs.

If the country routinely generates enough foreign exchange to meet its needs (think:  oil exporters), there’s no problem.  It can buy all the foreign goods it wants.  But that’s not normally the case.  Emerging countries routinely run trade deficits (that is, they buy more stuff from foreigners than foreigners buy from them).  To make up the difference, they borrow any extra foreign currency they require.  [an aside:  it’s also possible that the government of the country we’re talking about runs a budget deficit, meaning it spends more than it takes in.  That’s also a problem, but it’s not what we’re talking about here.)

In economic boom times, investors tend not to worry too much about how and when they’re going to be repaid.  (In fact, a generation ago international banks deliberately made loans to emerging countries that they knew could not be repaid.  The banks figured they’d collect big fees when the loans were restructured.  The possibility of default never entered their heads.)

In leaner times, investors look more carefully.  They make a (crucial) distinction between borrowing that pays for factories that will manufacture goods for local use or export, and borrowing that pays for purchases that produce no economic return (think: flat screen TVs, gold jewelry or military gear).  Building factories that will generate foreign exchange in a year or two is ok.  Borrowing to buy consumer items isn’t.

Lenders may initially be willing to make loans that are payable in local currency.  As/when the country begins to have a chronic trade deficit, lenders are no longer willing to do so  They shift to loans repayable in dollars…, which makes the foreign currency problem worse.

In cases where lenders see the probability getting their money back declining, new lending dries up.  The local currency begins to weaken.  The government has to raise interest rates–this supports the local currency and cuts into demand for foreign goods by slowing overall economic activity.  This is all toxic stuff politically.  Sometimes (think:  Argentina) local governments find any form of austerity to be impossible.

In my experience locals sense the beginning of a downward spiral long before the international investing community does.  Capital flight begins.  This makes the situation worse.

loose worldwide money policy

One of the side effects of qualitative easing in the US + Abenomics in Japan + Chinese efforts to promote the renminbi as a world currency has been to flood the world with money.  A lot of that has found its way into sketchy emerging countries that are economically unstable and on the verge of a currency crisis.  It appears many yield-chasing investors were unaware of the risks they were taking.  The presence of relatively high yields was all they saw.  Others were playing the greater-fool theory, figuring they could sell before the music stopped.

When the Fed began to talk about an end to tapering, the latter group knew the game was up and began not only to cease new lending to,but also to extract their money from, what has since become known as the Fragile Five.   That has led to weakening currencies, lower securities prices and a higher cost of lending in these countries.

takeover defense: getting bigger and uglier

MW vs. JOSB

Men’s Wearhouse (MW)–yes, W-e-a-r–and Jos. A Bank (JOSB) , two publicly traded men’s clothing companies, are involved in a takeover struggle.

the companies

MW is larger, in terms of yearly profits, number of stores and market capitalization.

JOSB has just over half as many stores.  By most important measures–return on capital, return on equity, earnings growth, cash flow growth–it is the superior company.

action so far

JOSB got the ball rolling by making an unsolicited bid for MW last October.  MW reportedly thought about trying to buy shoe company Allen Edmonds (the stratefy of making itself bigger and less attractive) but opted to go on the offensive and bid for JOSB instead.  MW did so in November, and upped the offer last month.

This maneuver, although not exactly rocket science, apparently caught JOSB by surprise.  Its response…

Last week, JOSB announced that it intends to buy Eddie Bauer from Golden State Capital.  According to the New York TimesGGC purchased EB in a bankruptcy auction for $286 million in 2009 (EB’s second bankruptcy in a decade).

The price?  …$825 million in stock and cash.  In a separate move, JOSB also intends to repurchase in the open market the same number of shares issued to GGC .

When the dust clears,

JOSB will own EB and have the same number of shares outstanding.  But it will also have $340 million less in cash and $589 million in new debt.  If the JOSB presentation materials talk about any borrowings EB may be bringing with it, I can’t find where, so the actual amount of debt on its balance sheet may be higher.  JOSB is projecting interest expense of $40 million for 2014.

what’s going on?

JOSB says the Eddie Bauer purchase will boost the combined company’s earnings by 40% in 2014 and another 50% in 2015.  Wow!

But if that’s true, why did JOSB ever pass over EB and bid for MW first?  According to JOSB’s investment banker, Financo (in a Bloomberg Surveillance interview), it presented Eddie Bauer to JOSB as an acquisition candidate in early 2012!  Moreover, Financo touts EB as a superior acquisition choice to MW.

I have a more cynical view of the situation.  I should be clear, though, that while I’ve studied this industry extensively in other countries, I don’t know much about the ins and outs of either JOSB or MW.  Rightly or wrongly, I’ve regarded men’s clothing as too highly cyclical to be worth the trouble.

Anyway, in this case, I see two sources of added value to the acquirer:

–the positive effect of ending situations where an MW store and a JOSB store compete head-to-head, lowering income for both.  Store openings for all brands under the acquirer’s umbrella can be coordinated to avoid this in the future.

–the merged company doesn’t need two CEOs, or CFOs or virtually any other head office employee.  The same for regional supervisory people.   The budget for advertising and other marketing probably can be a smaller percentage of revenues, as well.  This is the main synergy I see in any acquisition of this type–the management of the acquiree all become redundant and lose their jobs.

The net result–intended or not–of buying Eddie Bauer would be to make JOSB $1.2 billion more expensive for MW.  It’s questionable to me whether “diversification” into the technical or casual apparel EB offers is something MW–or JOSB, for that matter–should want.  I find it hard to believe, despite JOSB’s projections of fabulous earnings gains, that making itself bigger and uglier isn’t the purpose of the Eddie Bauer bid.

Note, also, that there’s nothing in the EB acquisition that requires JOSB to tender for $300 million of its own shares at $65 each.  The only thing the tender does is to erase a huge chunk of cash from JOSB’s balance sheet–making it unavailable for a potential acquirer to use to pay for its bid.

After all, doing so is a standard tactic of takeover defense.